Bank of America, UBS, and Barclays were all involved in the LIBOR fraud scandal.

In the 2009 Chrysler bankruptcy, secured creditors, first in line for repayment, ultimately received 29 cents on the dollar. This was still too much since the debt was trading for around 15 cents on the dollar. Jones Day, including Kevyn Orr, represented Chrysler in the bankruptcy.

In the Detroit bankruptcy, Kevyn Orr is apparently offering 45 cents on the dollar to back out of the interest rate swaps! And still no investigation of the banks and their fraudulent behavior surrounding the issuance of the Certificates of Participation and the associated interest rate swaps in 2005. According to The Detroit Bankruptcy, a report from Demos,

The law recognizes special duties that sophisticated financial institutions owe to special entities like cities in providing complex financial products. A strong case can be made that the banks that sold these swaps may have breached their ethical, and possibly legal, obligations to the city in exe- cuting these deals.

Detroit’s financial expenses have increased significantly, and that is a direct result of the complex financial deals Wall Street banks urged on the city over the last several years, even though its precarious cash flow position meant these deals posed a great threat to the city. The biggest contributing factor to the increase in Detroit’s legacy expenses is a series of complex deals it entered into in 2005 and 2006 to assume $1.6 billion in debt. Instead of issuing plain vanilla general obligation bonds, the city financed the debt using certificates of participation (COPs), which is a financial structure that municipalities often use to get around debt re- strictions. Eight hundred million dollars of these COPs carried a variable interest rate, which the city synthetically converted to a fixed rate using interest rate swaps.

These swaps carried hidden risks, and these risks increased after the Federal Reserve drove down interest rates to near zero in response to the financial crisis. The deals included provisions that would allow the banks to terminate the swaps under specified conditions and collect termination payments, which would entitle the banks to immediate payment of all projected future value of the swaps to the bank counterparties. Such conditions included a credit rating downgrade of the city to a level below “investment grade,” appointment of an emergency manager to run the city and failure of the city to make timely payments. Projected future value balloons in low, short-term rate conditions. This is because the dif- ference between the fixed swap payments made by the city and the floating swap payments projected to be paid by the banks increases. Because all of these events have occurred, the banks are now demanding upwards of $250-350 million in swap termination payments.

These swap deals were particularly ill-suited for a city like Detroit, which had been hovering on the edge of a credit rating downgrade for years. Because the risk of a credit downgrade below “investment grade” was so great, the likelihood of a termination was imprudently high. The banks and insurance companies were in a far better position to under- stand the magnitude of these risks and they had at least an ethical duty to forbear from providing the swaps under such precarious circumstances. The law recognizes special duties that sophisticated financial institutions owe to special entities like cities in providing complex financial products. A strong case can be made that the banks that sold these swaps may have breached their ethical, and possibly legal, obligations to the city in exe- cuting these deals.

ISDA Master Agreement

The ISDA master agreement is the most commonly used master contract for OTC derivative transactions internationally. It is used to govern many of the financial transactions between the City of Detroit and Wall Street. Below are links to the agreement and sites with explanations.